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By William Patalon III
Money Morning/The Money Map Report
Global Titan Yum! Brands Inc. (YUM) will buy back another $1.25 billion of its stock over the next 12 months, the latest part of a $4 billion stock repurchase plan announced last October.
Yum Brands operates the Taco Bell, KFC and Pizza Hut casual-dining restaurant chains.
The company said this authorization, which lasts over the next 12 months, is part of its overall plan to buy back a total of up to $4 billion in stock over a two-year period.
As of late last week, Yum said there was about $450 million left under the prior authorization.
Since Yum began its repurchase program in 1999, it has bought back about 250 million shares for about $5.4 billion at an average price of $21.73 per share through Jan. 23,.
The company said its regular share-repurchase program has reduced average diluted share count by 9% over the past two years.
Yum had about 508.6 million shares outstanding as of Oct. 15.
As so-called "Global Titans," companies such as Yum Brands combine the safety of the U.S. financial system [with its transparency, regulatory oversight and detailed financial reporting], with the long-term growth promise of emerging Asia and Europe. For that reason, Yum and firms such as PepsiCo Inc. (PEP), MGM Mirage (MGM), The Coca-Cola Co. (KO), General Electric Co. (GE), and The Boeing Co. (BA) are "best-of-both-worlds" investment.
When it reported its third-quarter profits back in October, the Louisville-based Yum boosted its profit growth projections for the entire year from 12% to 13%. When a company has to raise earnings projections, that's usually a bullish sign. And it's even better when a company says it's using the flush times to buy back its own stock. When the company announced those earnings, it said it would buy back the $4 billion worth of its shares, a move that would reduce its outstanding stock by a hefty 20%.
Yum also said it was adding new debt, using borrowed funds to help fund the buyback.
Research studies have demonstrated time and again that companies that buy back shares, as a group, tend to outperform the broader market. And adding some debt can actually be good for a company, creating what's known as an "optimal capital structure." That means the company's mix of stock and debt has enabled the company to achieve the lowest possible average cost of capital needed to fuel growth.
When a company buys back stock, its profits are apportioned across fewer shares, meaning it experiences earnings per share growth even if its actual profits don't increase. But when a company is building profits as Yum Brands is doing through organic growth – and is also buying back shares at the same time – the impact on earnings per share growth can be both remarkable and substantial.
And that usually bodes very well for the company's stock price, too.
The China Factor
For the third quarter alone, Yum Brand's China Division – which includes mainland China, Thailand and KFC Taiwan – operating profit rose a stunning 28% to $135 million. At the international division, which excludes China, operating profit rose 21% to $127 million. U.S. operating profit rose 1% to $187 million, but profit margin at company restaurants fell because of higher labor and dairy (cheese) costs.
For the year, sales in China soared 26%. International sales advanced 9%, and U.S. sales skidded 6%.
But the company is revamping its U.S. operations, including its menu offerings. And its overseas growth potential is massive.
Here's an interesting trivia question: What fast-food company is the world leader in terms of total restaurant outlets? Did you guess McDonald's Corp. (MCD)?
Close, but no cigar… McDonald's has 31,045. But Yum beats that easily, boasting 34,000 global locations – including 20,000 in the United States market.
The message is clear: There's still plenty of untapped growth potential abroad. Yum executives actually see the day when the restaurant firm has 20,000 locations in China alone.
And that means the overseas growth potential is huge, especially in China. [As we've noted in other articles, Yum's management is shrewdly adapting its menu and service to each market. Pizza Hut caters to "tea time" in China, restaurants offer favorite local desserts and even serve smaller portions.]
In China, when consumers think of chicken, they think of KFC. When they think of Mexican food, they think of Taco Bell. And when they think of pizza, Pizza Hut springs to mind. KFC is one of the most popular restaurant destinations in all of China.
According to recent reports in food-industry trade journals, Yum says it will open at least 425 new restaurants in mainland China, during the next several years. The move includes 310 KFCs, 85 Pizza Hut "casual dining" restaurants, 20 Pizza Hut "Home Service" restaurants, and 10 East Dawning restaurants.
On the international level, the company has plans to open at least 750 new restaurant sites overall. Those plans include 450 new KFCs, 250 new Pizza Huts and about 15 Taco Bells in at least 50 countries around the world.
The company also says there will be U.S.-market changes, too. Yum will expand its U.S. "re-franchising" efforts by reducing company ownership from its current 20% of the restaurants to potentially less than 10% by the end of 2010.
S&P says it is raising its earnings estimate for this year by another nickel a share to $1.95, citing the decline in the dollar versus China's yuan as a key reason.
S&P's target price for Yum: $45. From Friday's closing price of $36.24, that would represent an investment gain of 24% – and that's even before factoring in Yum's dividend yield of 1.7%.
The shares are trading at 18.8 times projected earnings. That compares favorably with 16 times for McDonald's, especially given Yum's more-favorable global-growth potential.
If these two stocks were valued like peer global-growth companies, both companies would see their share prices experience a significant advance.
We've written a lot about U.S.-based Global Titans that are positioned to benefit from China's substantial long-term growth. If you want a mini-portfolio of U.S. firms that will benefit from China, buy shares of Pepsi, Coke, McDonald's, MGM, GE, Boeing and Yum Brands.
News and Related Story Links:
- Money Morning Investment Research Report:
How to Profit From an Earnings Surprise Due to China's Rise
- Dow Jones News Service:
- Pork Magazine:
Yum! Brands Pushes Deeper Into China
- Business Week Magazine:
S&P Picks and Pans: Qualcomm, Broadcom, Yum! Brands, Baidu.com
About the Author
Before he moved into the investment-research business in 2005, William (Bill) Patalon III spent 22 years as an award-winning financial reporter, columnist, and editor. Today he is the Executive Editor and Senior Research Analyst for Money Morning. With his latest project, Private Briefing, Bill takes you "behind the scenes" of his established investment news website for a closer look at the action. Members get all the expert analysis and exclusive scoops he can't publish... and some of the most valuable picks that turn up in Bill's closed-door sessions with editors and experts.